Moneycontrol
Sep 13, 2017 07:00 PM IST | Source: Moneycontrol.com

Poor yields from Gulf, under-investment in domestic market weigh on Jet Airways

We have a neutral stance on the company on the back of its underinvestment in the domestic market and tepid capacity expansion

ByNitin Agrawal
Poor yields from Gulf, under-investment in domestic market weigh on Jet Airways

Nitin Agrawal

Moneycontrol Research

Jet Airways continues to face turbulence compared to its peers. The company nevertheless posted a decent set of numbers for the quarter ended June 2017 with growth in the operating revenues and an improvement in the load factor. However, the EBITDAR (earnings before interest, tax, depreciation, amortization and lease rental) margin was marred by higher fuel prices and maintenance charges.

We have a neutral stance on the company on the back of its under-investment in the domestic market and tepid capacity expansion despite some benefits coming out of cost optimisation and rise in codeshare agreements.

Quarter in a Snapshot: Fuel cost played spoilsport

Revenue from operations witnessed a growth of 9.6 percent (YoY) led by an increase in revenue passengers (8.1 percent) and a little support from an increase in yield (1.6 percent). Additionally, the load factor witnessed a growth of 70 bps over the same quarter last year.

Despite the growth in the top line, the company witnessed a decline of 202 bps (YoY) in EBITDAR margin. The decline was attributed to the rise in fuel prices (up 417 bps as a percentage of operating revenues), and aircraft maintenance cost (up 177 bps as a percentage of operating revenues) that were partially offset by the reduction in the other expenses (down 206 bps as a percentage of operating revenues).

EBITDA margin was down by a more respectable 136 bps, supported by the reduction in the aircraft lease rentals.

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Why is Jet losing out when the industry dynamics are improving?

Underinvestment in domestic business

Jet has underinvested in the domestic business as is evident from the fact that it employs 60 percent of ASKM (Available Seat Kilometres) to international business. Consequently, Jet continues to cede its market share to other players in the domestic market. It has lost significant (900 bps) domestic market share over FY12-17.

India has been witnessing double-digit domestic passenger growth for the last 35 months and load factor above 85 percent. The industry is navigating smoothly on the back of benign fuel prices and increase in middle-class affluence. However, in this favorable domestic environment, Jet is not well placed to capture the opportunities unfolding in the Indian skies.

Tepid capacity expansion plans

While other players in the industry are expanding their capacities, Jet has lagged behind. It has added only 5 aircraft in its fleet in a year and its capacity as measured by ASK (Available Seat Kilometres) has increased by 9.1 percent (YoY) in this quarter as compared to 18 percent added by SpiceJet and 18.6 percent added by IndiGo. The management plans to add 8 aircraft during the year.

Moreover, as of March 2017, Jet had an order book of 75 aircraft, compared to 411 aircraft and 155 aircraft of IndiGo and SpiceJet, respectively. This tepid capacity addition would limit the growth of the carrier, going forward.

Infrastructure challenge

The management indicated that the company is also facing infrastructure challenges. It is not able to get additional slots at Mumbai airport which is the hub for Jet. The proposed new airport at Navi Mumbai would take time to be fully operational. Hence, this is limiting the growth for the carrier.

Yields in international market facing pressure

The management indicated that the yields in the international market, especially Gulf region (Jet deploys 20 percent of the international capacity in the Gulf region) were under pressure in the quarter gone by and yield would continue to be under pressure, at least in the short-term.

Stretched balance sheet

Jet has a stretched balance sheet which continues to put pressure on the bottom line. Leverage, as measured by Net debt to EBITDA, stood at 6 times at the end of FY17. In 1Q18, the Company reduced its gross debt by INR398 crore, however, the net debt was almost flat at INR 8,078 crore.

The management has indicated that they are focusing on retiring the debt from the cash generated through operations and would take 4-5 years to retire the debt. The leverage in the Balance Sheet that is thwarting its expansion amid positive industry dynamics, increases the likelihood of a stake sale to raise capital in the future.

Jet is trying to fix the problem to an extent through

Focusing on cost optimisation

The airline continued its focus on operational efficiencies across its entire business thereby reducing costs. While fuel costs is beyond control, they are trying to optimise other expenses. The company’s efforts have helped it to partially counter the increase in fuel and aircraft maintenance cost as other expenses as a percent of operating revenues fell by 206bps in the quarter.

Codeshare agreements

Jet continues to expand its codeshare partners leading to increase in an overall number of codeshare guests and revenues. In 1Q18, the Company witnessed a growth of 22 percent in the codeshare guests and 76 percent in the revenues from this source.

For the understanding of our readers, a codeshare agreement is one wherein two airlines share the same flight in the sense that one airline markets and sells the flight of other as if it is their own flight and vice-versa)

Deal with IndiGo

The company can get a strong boost if media news of IndiGo picking up equity stake were to fructify. We have analyzed the deal in our earlier article.

Valuations

At the current price, the stock is quoting at 3.7 and 3.4 times FY18 and FY19 projected EBITDAR. While the current state of affairs in the company doesn’t excite us, we would be carefully monitoring any equity deal in the future that has the potential for re-rating the stock given the favorable industry dynamics.

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